The European Parliament’s Committee on Economic and Monetary Affairs (ECON) has taken on the difficult task of propose harmonized regulations to regulate the booming crypto-asset sector. The draft regulation, named MiCA for “Markets in Crypto-Assets” is part of the package of measures which aims to “unleash and strengthen the potential that digital finance can offer in terms of innovation and competition, while limiting the risks”, according to the explanatory memorandum of the commission in its proposal dating from September 2020.
In fact, this ambitious and fiercely debated MiCA project could, on the contrary, limit rather than reinforce the potential of this flourishing ecosystem. In any case, this is the vision shared by a large number of players in the sector, represented in France by ADAN (Association for the Development of Digital Assets).
This content is brought to you by Léo Schenk and Pierre Gineste, consultant and senior manager at Nexialog Consulting.
What is the context of MiCA?
“An asset whose perceived or inherent value depends primarily on cryptography and Distributed Ledger Technology (DLT) or similar technology, which is not issued or guaranteed by a central bank or public authority, and which may be used as a medium of exchange or for investment purposes”.
Definition of the term crypto-asset. European Parliament, March 17, 2022.
The MiCA regulation is part of a global fintech action plan. Following the surge in the capitalization of crypto-assets in 2017, the EBA (European Banking Authority) and the ESMA (European Securities and Markets Authority) were tasked with assessing whether the existing regulatory framework was appropriate. According to the opinion issued in 2019, the legislation was not only difficult to apply, but could also hinder the development of the sector.
In the meantime, various member countries have legislated on matters relating to crypto-assets in dispersed order: taxation, supervision of related activities, registration with national regulators, etc.
As the European market was thus fragmented, it was necessary toestablish a harmonized legal frameworkoffering investors an appropriate level of protection, ensuring financial stability and fair competition, while supporting innovation.
The history of the MiCA law
It is in this context that a first proposal was drafted by the Commission in September 2020. Following this, the German MEP Stefan Berger was appointed rapporteur for the project. The latter presented a first report in February 2021, then, following the opinions given by the European Central Bank, the Economic Committee and the European Data Protection Supervisor, a final version was submitted to the vote of the ECON in March 2022.
Although the proposal was accepted after being amended, it must now be presented to the European Commission and the Council of Europe. If adopted following this trialogue, crypto-asset market players will have 18 months to fully comply with it.
What does the MiCA project contain?
MiCA takes up part of the regulations applied to so-called “traditional” finance, i.e. MiFID, market abuse (MAR) and prospectuses, adapting them to the specificities of the crypto-asset market.
The regulation covers four main areas:
1. Offering crypto-assets (other than stablecoins or e-money tokens) to the public
This activity will be reserved for legal persons, who have drawn up a white paper detailing, among other things, the issuer’s project, the type of crypto-asset, the underlying technology and of course the risks involved. This document will not require validation by the regulator, but the latter will still have to be notified. Commercial communications will also be regulated. The funds obtained in return for the offer will be entrusted to a credit institution or an approved crypto-asset custodian. Investors will benefit from a right of withdrawal.
2. Tokens referring to one or more assets (stablecoins replicating several legal tender currencies, one or more crypto-assets, raw materials or finally a combination of such assets)
The issuance of this type of crypto-asset will be subject to approval if a certain amount is exceeded and its offer is not intended solely for qualified investors. Approval will be issued under certain conditions: governance and risk management systems, internal control mechanisms and capital requirement (the highest amount between €350,000 and 2% of the average value of the reserve). A white paper must also be notified to the competent authority.
3. Electronic money tokens (“e-money token”, stablecoins replicating a legal tender)
Because this type of stablecoin is primarily intended to be used as a medium of exchange. It thus directly competes with replicated fiat money. The regulations are the most restrictive here. Indeed, theissuer must be approved as a credit institution or electronic money institution. It must also be able to reimburse token holders at any time and at face value in the replicated currency. The assets held in own account and those used to cover the tokens issued must be separated, these reserves must be audited and subject to a strict investment plan in order to maintain sufficient liquidity. Finally, the issuer cannot offer to remunerate the holders of the token via the payment of interest linked to the holding period.
In the two previous cases, if the stablecoin is considered “significantly important” according to a list of determined criteria (market capitalization and trading volume for example), the issuer will have the obligation to comply with additional regulatory constraints. as well as oversight by the European Banking Authority.
4. Crypto-asset service providers (PSCA)
This section, greatly inspired by the French regime for digital asset service providers (PSAN) concerns inter alia custodians, trading platforms, investment on behalf of third parties or advice providers.
These activities, reserved for legal entities, will require approval before they can be exercised within the union. In order to obtain the latter, service providers will be subject to multiple rules: integrity of managers, complaint handling procedures, system of governance, internal control, prudential requirements, guarantees of “best execution” of orders as well as various rules relating to market abuse.
Finally, service providers will have to comply with the obligations in terms of money laundering and terrorist financing under Directive (EU) 215/849. A KYC procedure will be required, as well as some traceability of funds. These measures may prove difficult to apply given the decentralized and pseudonymous nature of the blockchain when the funds pass through addresses not held by establishments.
Note that MiCA does not apply to “security tokens”, defined as “classic” financial assets within the meaning of MiFID. For this type of product, a pilot scheme is being developed to facilitate testing of the use of DLT in the area of financial instruments. Several tests have already been carried out in France, in particular by SG Forge, as part of a call for experiments on the MBNC (National Currency of the Central Bank) of the Banque de France.
Also note that the NFT (Non-Fungible Tokens) are excluded from the text, provided they do not fall into any previously defined category.
MiCA: A very controversial regulation
MiCA makes it possible to lay the foundations for the necessary regulation of the ecosystem. Similar to the “Wild West”, this gold rush attracts a number of dishonest players against whom investors are currently poorly protected. In doing so, the content of the regulation is strongly criticized:
- The most decried section of the text risked leading toprohibition of the consensus method by “proof of work”, used in particular by Bitcoin, considered polluting and subject to minimum standards of environmental sustainability. This amendment was finally rejected in an ECON vote on March 14, 2022, much to the relief of ecosystem players.
- The Credit institutions would be exempt from authorization for the issuance of stablecoins, which should strongly favor incumbent financial players and create a major barrier to entry, thus limiting competition and innovation.
- The subject of the DeFi (decentralized finance or open finance) is not addressed in the text, resulting in de facto legal vagueness or even the illegality of certain algorithmic stablecoins or other projects carried out by DAOs (Decentralized Autonomous Organizations) which would not have a legally established structure while they would issue crypto -assets.
- At the same time, the European Commission is working on the legislative package relating to the fight against money laundering and adopted on March 31 a proposal which would have a full impact on the crypto-asset sector with an obligation for service providers to verify the information of holders. wallets not hosted on their platform. This measure, which consists of extending the TFR (Transfer of Funds Regulation) to crypto-assets, would call into question the anonymity or, at least, the “pseudonymity” of personal portfolios, an essential building block of the ecosystem. In addition to the administrative burden that would weigh on the sector, there would be the problem of securing user data.
- Finally, the European regulations are considered too restrictive compared to what is done internationally. In the United States, a “sandbox” approach has been used so far, leaving providers to evolve outside the traditional regulatory framework. While in the United Kingdom, the FCA (Financial Conduct Authority) is launching a public consultation called “crypto-sprint”, in order to reflect with the players in the crypto-asset ecosystem on the constitution of the future regulatory regime.
More than 40 European companies and organizations in the crypto-asset sector sent a letter to the finance ministers of the countries of the European Union on April 13, asking them to relax the rules proposed by the MiCA and TFR regulations. It asserts that the application of these texts as they stand would compromise the expansion and competitiveness of the sector in Europe with more complex and restrictive regulations than in the rest of the world.
For his part, Emmanuel Macron said in an interview with the specialized media The Big Whale :
“France will be very attentive to ensuring that the text does not prevent innovation and remains as technologically neutral as possible”.
These are the challenges of this project. Will the European Union succeed in producing a text likely to satisfy both the actors of the ecosystem, the “traditional” financial institutions and the politicians? And will it do so while guaranteeing the security of investors as well as that of the financial and monetary systems, all without compromising the potential of this moving sector with exponential growth? The equation is complex and the stakes are high for Europe, if it does not wish to miss the revolution promised by Web3.